Index Funds vs. ETFs – what the bleep is the difference?

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Let’s say you’ve embarked on the wonderful journey to become a successful Wealth Chef, you’ve decided to make your financial freedom a priority, and you are showing yourself and the world that you value you by paying yourself first and putting that money into assets that will work hard for you.You have fallen in love with the concept of Passive Investing and understand why Index Tracker investments are so much healthier for your wealth than TV dinner type prepackaged investments and actively managed funds.

So it’s all good… or so you thought. Just as you were feeling confident to launch forth and select your investments along comes more jargon and more decisions to make.

Do you choose an Index Tracker Unit Trust (also called mutual funds) or Exchange Traded Funds for your passive investment? What is the difference between them anyhow?

I’m so glad you asked, because I’ve got all the information you need right here to help you make your choice.

In this video I explain the difference between the two and when and why you would choose to invest with an ETF or a Unit Trust version of your selected index tracker and the table below provides a convenient comparison of the differences.

Index mutual funds and ETFs are virtually the same thing, the only difference is in how they’re bought and sold.

The content of the unit trust (mutual) funds and their corresponding ETFs are theoretically the same: a unit trust fund tracking the S&P500 should have the same stock components as an ETF tracking the S&P500, except that the ETF is bought from the stock market and the Unit trust fund from the fund house – both via your online broker.

Unit Trust (Mutual Fund) Index Tracker

Exchange Traded Fund (ETF) Index Tracker

Ticker symbol (the unique code name for every share and fund)

5 letters ending in an x

2 to 4 letter

Where do you buy and sell them?

From the fund house (via your on-line broker or fund supermarket)

From the Stock Exchange like an ordinary company share (via your on-line broker)

How is the buy and sell price set?

Priced once a day, after the market closes. At that point, any orders placed during the day will be executed.

Trade just like stocks on exchanges (thus, the “exchange-traded” in their name). Their prices change throughout the trading day, and orders are executed very quickly while the market is open.

Trading costs – the cost of buying and selling your units in the fund

Many index funds can be bought on a “no-load” (i.e., no upfront buying cost and no commission) basis, especially if bought directly from the fund company or via an on-line broker. Always ensure there is no-load.

Brokerages generally charge a trade fee to buy or sell shares on the Exchange and hence ETF’s have this same buy and sell cost. Some on-line brokers offer free trades on selected ETFs.

Minimum Investment amount

Most Unit Trust (mutual funds) require a minimum lump sum investment, generally ranging from $1,000 to $3,000. The great benefit is many offer an ongoing “automatic investment” program which allows you to invest in smaller regular amount from £25, US$50 or R300.

No minimum investment as long as you can afford the price of a share and trading commission. You must take the trade cost into account and aim to keep the trade cost well below 1% which means that is the trade cost is say $10 you should invest in chunks bigger than $1000 to keep your costs low.

Let me know your thoughts on this in the comments below and let me know what other questions you have about passive investing.

Learn how to get these awesome investments working for you in the FREE Passive Investing masterclass. Click here to get access >>>

I absolutely love all the incredible free information you are kind enough to share with us. I love everything you stand for.

From watching your various online videos I want to take advantage of your financial advice and start investing NOW 🙂 . I would like to transfer one of my previous employers pension schemes (started at the age of 18 years) to a Mutual Fund Index Tracker SIPP, I have received my transfer value statement (£100K plus) from a previous employer. I was considering transferring my fund to a reputable company called Hargreaves and Lansdowne (UK Company…fees are quite high though). If you could recommend any other UK finance houses it would prove very useful. The crazy thing is I didn’t even take into consideration that my pensions were assets until I watched your wealth chef videos. I am a single 45 year old female with no dependants…time is short I know, but as you have stated previously, its never too late!! 😆

Would you be kind enough to give me some impartial advice as to what/which Mutual Fund Index Tracker I should choose. I completely understand that the final decision will be mine, and I know that my money is at risk.

I also have a local authority government pension scheme…should I consider consolidating and transferring both schemes?

I hope to receive a response from you in due course. I know that you are very busy, but I would really appreciate your sound advice.

I just found out what my tax return is going to be for the year, and I’ve decided to invest it. This is exciting as it will be my first foray into investing, but I need some clarification. I was going to select the Unit Trust Index Tracker, because on a monthly basis my available investment funds would be in the range of $100-$200 US dollars. However, combining my monthly investment with my tax return would give me the $1500 to invest in an ETF. Since I won’t have such large sums to add more ETFs on a regular basis, would I be wiser to invest the $1500 into Unit Trackers knowing I can add more monthly, or invest in an ETF while I have the money available and let it grow while I apply my monthly funds to Unit Trusts?

Huge congrats Katie for making a seriously wealthy decision with your tax refund. Keep it simple and then you’ll do it. The power of regular action (investing) with reinvesting your investment returns is what will create a juicy wealth pot so just select an index tracking unit trust, make the lump sum contribution from your tac refund and setting up your monthly regular investing all at the same time and get is happening. That is far more important now than the tiny long term cost differential between an ETF and a Unit Trust type tracker.

Hi Ann, just opened a self managed trading account with SelfTrade…. looking for my first ETF, thinking Vanguard FTSE 100 … it’s trying to keep the fees low which I am struggling with, bit confused. Hoping to find link for Stocks for Frocks and hoping to join the Uni next time it opens. Keep up the fab work

Hi Ann,
Really enjoyed this post and I know nothing about investing whatsoever. The banana analogy helped me understand a very foreign conept. I grew up in a family where my dad looked after all the money and we were never taught how to create any wealth at all. Been feeling the HUGE tug recently to change my thinking and experience around wealth and realise financial freedom for me and my husband. I have always had enough money and been great at saving and never really had debt as I always pay off loans/ credit cards quickly and don’t spend money I don’t have. The only debt I have right now is a mortgage but the repayments are not large. But I really want to take my finances to new heights and live life on my terms. Where is the best place to start with your products?
I am very focused and want to learn practical tools I can start implementing asap and not wasting any more time. Can you advise?

Hi Ann
I have opened my online stock broker account with ABSA and would like to learn more as to how to make money work hard for me, hope after stock for frocks i will have the hand full of information to help me do just that since i have got my ticket.

I am definitely going to join your stocks for frocks via livestream. I’ve recently decided to take control over my financial wellbeing and future.
I’ve recently signed up for Sanlam’s collective investment fund but I feel unsure if this is the best option for me. Is this the same as a unit trust?
Marnita

Huge congrats for taking back your power and I’m so looking forward to having you at Stocks for Frocks Marnita. The Sanlam investment you have is a form of Unit Trust but it is an actively managed fund, meaning you will have higher fees. The great news is that after Stocks for frocks you will know exactly how to evaluate what you have and know what is best for you and how to get your money working for you and not someone else.